Settling in for higher terminal rates
November 8, 2024
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-Fed cut 25 as expected, so EFFR should now be 4.58% (from 4.83%). Jan FF contract settled 9560.5, +0.5 on the day, or 4.395%, so the spread to the new EFFR is -18.5, i.e. about 75% chance of another 25 bp cut in Dec. FFG5, which also captures the Jan 29 FOMC, settled 9570 or 4.3%. It’s somewhat surprising, given the surge in equities post-election, that rate cut expectations remain fairly well entrenched. However forward rates remain stifled. SFRZ4 settled 9559.5. The highest contract on the strip is now SFRM6 at 9626.5, a spread of just -67 to front Dec. On Oct 1, SFRM6 was 9708 and SFRZ4 was 9597.5, a spread of -110.5. Every SOFR contract over the three year span from Z’25 to U’28 is between 9622 and 9626.5, about 3.75%. I had thought a ‘terminal rate’ would be about 2.75% in this cycle, which was around the high in Trump’s first term in 2018. Either I am wrong, or it’s worth looking at long-dated call spreads in SOFR.
–Premium across rate futures continues to compress, accentuated by the countertrend rally in bonds. On Monday the Jan atm US straddle was 5’22 ref 117-28 (30y yield 4.494). Yesterday, the Jan US atm 117 straddle settled 4’10, with futures just 20 lower than Monday at 117-08 and cash yield of 4.543. Similar story in SOFR. On Monday SFRU5 9625^ settled 81.5 vs 9626. Yesterday SFRU5 9612.5^ settled 74.0 vs 9616.5. Ten year yield fell 8.5 bps 4.341%.
–Today brings U of M sentiment and inflation expectations. All polls are now taken with a grain of salt. Next week CPI Wednesday and Retail Sales Friday. Powell speaks on Thursday.
